A reader has asked me to link to this article about what price-rent ratios are telling us about the state of the housing market. Price-rent ratio is basically the price of a house divided by the cost of renting an apartment—a measure of whether houses are more expensive than they should be. Here’s a taste:
At first pass, the data suggest we’ve largely come back to earth. The average price-rent ratio for the 54 metro areas Economy.com broke out was 19.8 for the three months through September, a couple of points higher than the 15-year average of 17.7 but significantly lower than where the ratio stood three years ago, 24.4. By doing some additional math (which we’ll explain later), we can surmise that house prices still have to drop 4.6% over the next five years, assuming the price-rent ratio returns to normal over that period. Funny how that almost doesn’t seem so bad at this point. And if we look at the entire U.S., which includes many rural areas unaffected by the house-price run-up, the picture is even better — we should be seeing average house-price appreciation of 2.2% over the next half-decade (again, assuming the price-rent ratio reverts to its 15-year average).
Granted, price-rent ratio is hardly the last word in predicting home prices. Economists who use these numbers (including those at Economy.com) take into account a lot of other factors when forecasting, like housing affordability, population trends and how incomes in an area are changing. Price-rent ratio is the quick and dirty way of doing it — but that also makes it more accessible. It’s easy to look at a price-rent ratio of 21.7 in Miami, compare it to a 15-year average of 16.8 and realize the market still has quite a bit of room to fall. Just like it’s simple to see a price-rent ratio of 13.9 in Indianapolis, line it up against a long-term average of 14.8 for that area and decide it might be time to start house-hunting. If you click here, you can see the breakdown for all 54 metro areas.
If you’re fuzzy on what I’m talking about when I say “price-rent ratio,” or if you simply care about data integrity and want to understand the caveats that go along with these numbers, click here to read the full story.
While you’re reading Time.com stories, you might also want to check out this one my colleague Steve Gandel wrote about why FICO scores are no longer the last word in assessing creditworthiness. ‘Bout time.